The Commission-Based Fee Structure: it’s Bad for Buyers April 22, 2008
This post is not legal advice. For legal advice, consult an attorney in person, not a blog.
[Sorry, no links or cites here, but I think the following historical perspective is undisputed:] Originally, real estate agents (and brokers, referred to collectively in this post as “agents”) represented only the seller. The “listing” agent signed the contract with the seller that entitled the agent to a commission. This agent then informed other agents about the house now available for purchase by posting on the Multiple Listing Service. Another agent, the “selling” agent, would see the listing and show it to a potential buyer. Even though the selling agent then assisted the buyer in purchasing the property, she actually — and legally — worked for and owed a duty to the seller only. Because the “selling” agent assisted with the sale of the property, the “listing” agent would then split the commission paid upon the sale. The system made sense, as only the seller paid the commission to the listing agent, the listing agent then offered to share the commission as means of finding a buyer, and both agents eventually assisted with the sale. Indeed, some agents today still look at commissions in this light. As James Melanowski, an agent, said in a recent comment (#20):
There is one commission. I get paid x% to sell your property and with that x% I will do everything in my power to do my job. That may include paying a buyer’s agent, it may not. I may want to pay that agent y%, y-1/2%, or y+1/2% to bring that buyer to the table. The point is, x% is what you pay ME and it is to do with as I please.
Unfortunately, in this system, buyers usually mistakenly believed that “their” agent represented them in the transaction, when in fact they had no representation at all and “their” agent worked for the seller. With the evolution of consumer protections, many states revised this system. In 1996, Washington passed RCW Chapter 18.86, which by law altered this arrangement. Since then, in Washington a “buyer’s” agent owes a duty only to the buyer, regardless of the source of compensation, while a “seller’s” agent represents only the seller. Notwithstanding this new legal arrangement, the term “selling” agent is still used today by the MLS to describe a buyer’s agent(much to the chagrin of enlightened agents — right, Ardell?).
But if the buyer’s agent now represents the buyer, why is the buyer’s agent paid by the seller? This alone is enough to create a conflict of interest that could potentially impact the quality of the buyer’s representation (see RPC 1.08(f)). Furthermore, if the buyer selects her agent and works closely with the agent to find and buy a house, and the agent owes a duty only to the buyer, shouldn’t the buyer have the ability to decide how much to pay the agent? Under the current system, based on an outdated and no-longer-applicable model of representation, it is the seller — not the buyer — who ultimately determines the buyer’s agent’s compensation.
In addition, agents can and do represent both buyers and sellers. Thus, they have a vested interest in a system that promises a significant commission for both sides of the transaction. With flat fee listing and FSBO, the listing agent commission has come under increasing price pressure, and indeed it is not uncommon for listing agents to reduce their commission from the previously “standard” 3% (often times as long as the seller will also use the same agent for the following purchase, thus allowing the agent a subsequent and “full” 3% commission). The “selling” agent commission, however, is immune from such price pressure given the current business model. Indeed, as Kary Krismer, another agent, said in a comment (#31) to a recent post in reference to a buyer’s agent’s commission of 2.5%, rather than the standard 3%:
Well, it’s not that it’s a waste, but it’s not a wise decision at all. We’ll show buyers 2.5% properties, and have actually had a number of transactions in them. But there are some agents that won’t, or that subconsciously might down-talk the property.
Agents may argue that they are “entitled” — or, more accurately, earn — a full 3% given the time and efforts they invest in a sale, but that alone cannot justify this failure to show properties with a slightly lesser commission. After all, even 2.5% is a reasonable — to say the least — paycheck given the average house price (2.5% of $400k is $10,000). Thus, whether consciously or subconsciously, a signifcant number of agents fail to best serve their clients’ interests (by showing them ALL suitable properties and giving honest and accurate advice about each) simply because they won’t make as much money. While that is not absolutely wrong, at a minimum the buyer should be aware of this “limited” representation. How many buyer’s agents — who discriminate against commissions of less than the “full” 3% — have that conversation with their clients?
Finally, because the commission is a transaction cost, it stands to reason that a decrease in that cost will benefit either buyers or sellers or both (either prices remain the same with less costs and more money to the seller, or prices are reduced to reflect the reduction in costs, or both). With the current system, there is virtually no incentive to reduce this cost — or, for that matter even an ability to do so, unless the buyer is willing to forego an agent and either use another professional (say, ahem, an attorney) or self-represent.
So, the current commission-based fee structure, based on an outdated and now inapplicable model, leads to increased transaction costs (than what would be available in a truly competitive market) and a decreased quality of buyer’s representation. I’d say that’s bad for buyers.
FHA Jumbo April 1, 2008
I thought it might be helpful to provide some information for you to use for when I quote rates on Friday for the FHA Jumbo mortgage. There are other criteria to be considered beyond looking at the rate. You may not have considered FHA before due to loan limits, now it’s more attractive: how else can you buy a home priced at $584,000 with 3% down and credit scores below 720?
FHA Mortgage Insurance
FHA charges both upfront and monthly mortgage insurance regardless of how much money you’re putting down. Seriously, if you’re putting 50% down and using an FHA insured mortgage, you’re paying mortgage insurance. FHA mortgage insurance does not cancel out automatically when your home has an 80% loan to value. You will pay the FHA mortgage insurance for a minimum of 5 years and 78% of the original value (lesser of sales price or appraised value) of the home.
Upfront Mortgage Insurance
Upfront mortgage insurance for a FHA insured mortgage is 1.5% of the loan amount. With an FHA mortgage, you have a base loan amount and the adjusted loan amount (after you add in the upfront mortgage insurance). For example, if your base loan amount is at the current King, Snohomish and Pierce County level of $567,500, your adjusted loan amount will be $576,012 (567,500 plus 1.5% or 8,512). Once upon a time, FHA upfront mortgage insurance could be refunded if the mortgage was terminated early with a balance of the mortgage insurance premium remaining, this is no longer the case for new FHA mortgages (which I believe is part of the reason FHA fell from favor during the subprime boom). The adjusted loan amount is what your principal and interest payment is based on. So if the rate going for a FHA Jumbo was 6.500% (this is not a rate quote; this is for example only), the principal and interest payment would be $3,640.79 (57012 amortized for 30 years at 6.5%).
Monthly Mortgage Insurance
Yes…as if paying that 1.5% upfront MI wasn’t enough…FHA has monthly mortgage insurance as well…the good news is that it is at a low rate compared to traditional private mortgage insurance (especially factoring in a jumbo loan amount, higher loan to value and credit scores below 720). The rate for FHA mortgage insurance is 0.5% of the base loan amount. Using our current example, your monthly mortgage insurance would be $236.46 (base loan amount x 0.5% divided by 12).
Low Down Payment
FHA Jumbos allow for as little as a 3% down payment. This means you could be a home priced at $ with the base loan amount of $567,500. Your down payment must be fully sourced and seasoned. Be prepared to hand over your last 2-3 months of bank statements and any asset accounts (all pages) and to explain any large deposits that are not from your source of income.
The Seller may contribute up to 6% towards closing costs however the buyer has a minimum investment required of 3%. Family members can gift funds towards closing costs as well which counts towards the buyer’s required 3%.
Speaking of documentation…
FHA is a fully documented mortgage loan. You will need to provide 2 years of W2s (tax returns if self employed) and your most recent paystubs covering 30 days of income. Any gaps of employment during the past 24 months will need to be explained. There are no income limitations and the DTI is roughly 43%.
I’ve covered FHA before…and the guidelines for traditional FHA are pretty true for the temporary Jumbo FHA mortgages as well. Here are a few more pointers for our current market:
* FHA does not have price or loan to value limits for geographical areas determined to be soft or declining.
* FHA does not have credit score risked based pricing for credit scores above 620. (Lenders may have their own risk based pricing for credit scores under 620).
Sellers with homes priced around the new FHA jumbo loan limits should consider buyers utilizing FHA financing. A sales price of $584,000 would allow for a minimum down FHA insured mortgage. However a home buyer could always use more towards down payment and opt for a FHA mortgage meaning that if your home is priced higher, you may still want to consider allowing FHA buyers as they may be considering FHA over the price hits conforming has if their score is below 720.
Condo’s are acceptable for FHA financing as well. They may not be on the FHA approved list, however, if the condo meets the requirements for a “spot approval”, they can still qualify for FHA financing.
Act fast…FHA Jumbo is only here until December 31, 2008.
What will a market slow down do to discount brokers? November 1, 2007
One of the reasons I became a real estate broker and started a RE company was because I felt 3% across the board was not right. Using capitalism, over the past 100 years as a guide, real estate will move away from the % model to a more competitive flat fee for service model. Speaking of Seattle in general, a 750k house is not worth $7,500 more in commission than a 500k house. Of course there are special circumstances, but on average.
The mood is changing in real estate. Greg Swann talks about some changes in the industry as a whole in his post here. The real change will come as full service agents become more and more aggressive for business. The slow down in the housing market will surely result in a long over due change in the traditional real estate commission structure. Following the typical paradigm shift, prices decrease, while customer services increase. This means ‘No Touch’ discount brokers will have it rough down the road. As more agents offer their services at competitive prices, discount brokers will loose their appeal.
I do not want to pin point any specific discount brokerages, but in the past week I have noticed two well known discount brokers signs taken down and replaced by reputable full service firms. Discount brokers are stuck at a flat fee with zero customer support (AGAIN… on AVERAGE).
The big question is, “Would the average buyer/seller rather pay a bit extra for a live body than an 800 number to call? “ Time will only tell, but in a service industry, price is never the deciding factor!
| UPDATE: I have received an unusual amount of personal emails about this post. I would like to reiterate my reason behind this post was to show the real estate paradigm is shifting. My purpose WAS NOT to challenge the value of an agent or was I trying to make agents defend their side of the story (I am a broker so I guess mine too). My purpose was sharing my view of the future and what will happen. |
Common myths & misconceptions of Escrow. October 22, 2007
Please do not construe this as legal advice, it is not. The sampling below is general in nature and is referencing common escrow misconceptions we see in the course of conducting business.
Here are a few to get started.
1) Escrow firms produce and verify the validity of Legal Descriptions.
- Incorrect. In a sale it is the Seller’s responsibility to correctly identify the property that is being sold. The Buyer should verify that the legal description matches the property that they intend to purchase.
2) Escrow firms are bound by Northwest Multiple Listing Rules.
- No. Escrow is bound by the Escrow Agent Registration Act of Washington. Some managing real estate brokers erroneously believe otherwise. The Legislature also has determined that escrow officers are subject to the Consumer Protection Act.
3) Escrow firms never have conflicts of interest or problematic transactional issues.
- Untrue. Escrow firms commonly run into potential conflicts of interest, and problematic issues. The idea is to reduce the exposure of potential conflicts and issues as much as possible via a variety of means. For example, escrow commonly discloses those problems to the principals in the transaction so they can consult appropriate professionals and give escrow additional instructions on how to proceed.
4) Independent Escrow firms are sued more often than attorney-owned escrow firms.
- No. Ironically, Attorneys who own escrow firms have earned that privilege. (Source: Fred Phillips- Attorney, LPO Seminars).
5) Limited Practice Officers at escrow firms are tested & licensed by the Washington State Dept. of Licensing.
- No. The LPO exam is administered by the Washington State Bar Association twice a year. The pass rate has been under 30 % for quite a while, but has recently improved. LPOs are regulated by the Washington State Bar Association and Washington State Supreme Court. Independent Escrow Companies are regulated by the Washington State Dept. of Financial Institutions.
6) Escrow staff work at all hours of the day and evening.
- Traditionally, no. Most are open from 9-5pm. From a practical standpoint, ownership does work at all times (speaking only for our company). Escrow firms have banking hours for a reason. Escrow firms are closed when the there are Federal holidays and when the Federal Reserve is closed. The receipt of lender wires occurs up to specific times in a business day, typically until about 2 pm. This may depend upon the trust account banking policy the escrow firm has with its own bank.
7) Loan officers and real estate agents are principals in the escrow transaction.
- Incorrect. The buyer(s) and seller(s) are the principals and escrow can only be instructed by these parties. Loan officers and agents cannot instruct escrow or influence the escrow transaction in any manner.
- Example: a loan officer who calls escrow to request proceeds check mailed to their customer instead of being wired to the customer’s bank as the client previously instructed escrow in writing.
- Example: a real estate agent/Broker instructing escrow to refund an earnest money check to a borrower (buyer) without a rescission agreement.
Escrow staff can produce, prepare and/or instruct their clients (buyer or seller) on drafting purchase & sale addenda for common things such as extending a closing date.
- No. This is tantamount to practicing law and may be a conflict of interest. Only a licensed real estate agent, attorney or principal parties can draft addenda.
9) Loan documents are almost always perfect when submitted to escrow.
- No. Loan documents frequently and frustratingly have errors, such as incorrect fees, incorrect name spellings, incorrect vesting, among other errors.
- Loan documents take time to prepare after receiving them from the lender, particularly if docs are re-drawn several times. This is a reason many escrow firms refuse to set up signing appointments with clients (who sometimes have to take off work early or are inconvenienced in other ways) until the docs are at escrow, prepared and confirmed correct with the borrower, mortgage broker and real estate agent.
10) Escrow staff have no deadlines.
- Emphatically incorrect. Escrow staff are looking at the clock all day long. In our State, disbursing funds cannot take place until confirmation that the documents have been recorded.
- Escrow staff must get loan payoffs to Fed Ex or UPS on time. This is a prime reason our company is located just blocks away from the major UPS terminal for Snohomish Co. It allows just that much more flexibility in TIME. Time is precious in the escrow business.
- There are many other time-sensitive tasks as well.
11) Once escrow has been opened and is progressing towards closing, Escrow cannot refuse to close a transaction.
- Incorrect, and it does happen.
Do It Yourself Home Staging October 7, 2007
This is a good example of what a homeowner can do by themselves to get their property ready for market. There are really only three things that will help a property sell. Location, Condition and Price. The only thing you can do anything about are condition and price. So make sure you do your best with condition, before considering a price change.
This 3 bedroom townhome in Brookwood Place in Bothell was already on the market with these before photos when Jeremy Keener and I arrived with nothing but a camera. We did not bring anything with us for staging this townhome to recreate the “stage” except what the owner already had in the townhome. Everything that was in the room is still in the room, just arranged a little differently.
As you can see, this is the same room. The main change is to show the townhome’s best selling feature. By opening the blinds so that the photo in the mls shows the green out the window, a prospective buyer can readily see this prime feature. The “copy” did say it “backs to greenbelt”, but a picture speaks a thousand words. So we opened the blinds and let the greenbelt show.
Transforming the dining room was easy. Mostly we just moved the sofa, which you will see in the living room photos, so it wasn’t blocking the entrance to the dining area. The tall piece in the corner was moved up behind the folded out futon in the bedroom photo above. The owner had already placed the tablecloth, table runner and pictures.
We ditched the folding chairs into a closet. The room is big and bright without the chairs, so we left it that way. We reversed the sofa and loveseat, but I couldn’t get the sofa corner to fit totally out of the dining room entryway, so we simply took the blanket throw from the back of the sofa and draped it to help camoflouge the dark sofa corner intruding on the dining entry space.
The living room was just too crowded with stuff. We pulled the big 3 foot ottoman out of the room and put it in the 3rd bedroom, which is on the main level and used as an office. We put the blue doggie bed in there also. We reversed the couch and loveseat to make more room walking into the dining area.
We moved the coffee table into the center space between the couch and loveseat. We found the mantle items in other places, the center “picture” being a placemat. The throw pillows on the sofa ended up upstairs on the beds. We opened the blinds a tad to bring the green of the outdoors, inside. Other rooms were arranged as well, and it took less time to transform the townhome than it did to write this post.
Should Loan Originators Retract Preapproval Letters? October 4, 2007
Someone interested in buying a home interviews a couple of Loan Originators and selects one to become preapproved with. The Loan Originator meets with the buyers and takes a complete loan application, reviews their credit and obtains all of their documentation. The LO provides the buyers with all of the possible mortgage scenarios and they select which program is best suited for their financial goals. The LO then submits that loan scenario to their processor and/or underwriter for loan approval. (With our current market, I am submitting all supporting documentation to the underwriter to sign off on before issuing a preapproval. Before August, I would review the findings with the borrower’s supporting documentation and a majority of the time, I would issue the preapproval letter without underwriter review. I’m not taking any chances).
The Buyers are very excited and write an offer on a home with a real estate agent that the LO has not worked with before. The real estate agent uses the LO’s preapproval letter when submitting the offer to the Listing Agent and Sellers. The offer is accepted.
A few days later, the Buyer emails the Loan Originator and says, “Gee thanks…we’ve decided to go with the real estate agent’s preferred loan officer”.
Should the Loan Originator inform the Listing Agent that the Buyer has decided to find financing elsewhere? The Listing Agent and the Seller considered the preapproval letter when they selected that offer. Now “that lender” and “that preapproval” are no longer in the picture. In this market (or any really), shouldn’t all parties know if the buyer has switched financing from the lender they were originally preapproved with at the time of the offer? I would assume the Listing Agent and Seller would want to have a preapproval letter from the new lender.
Listing Agents and Sellers, what do you think?
A Seller’s Guide to FHA October 1, 2007
FHA insured mortgages have received a stigma in past years for creating a challenging transaction. Sellers seem to prefer conventional financing, even subprime financing, over an offer with an approved FHA buyer.
The Federal Housing Administration was established in the 1930s following the Great Depression. These innovative low down payment loans were intended to help more people become home owners with intentions of creating more stability in neighborhoods. FHA insured mortgages are woven into American history.
Here are some reasons you,as a Seller, should consider an offer with FHA financing.
- Preapproved FHA buyers are full documentation loans. These buyers have been scrutinized and have provided income and asset documentation in order to have a true preapproval.
- FHA mortgages are not going to “disappear” as other mortgage programs, such as various Alt-A and Subprime programs have.
- Lenders who can provide FHA mortgages have met stringent standards set by HUD.
- Since January 2006, appraisal requirements have improved to be “as is” instead of requiring cosmetic fixes. FHA is more concerned with safety and soundness of the property as well as the security of the loan.
- Inspections for pest, wells and septic are only required (from a lender stand point) if the appraisal indicates one is needed.
- Non-allowable closing costs have been reduced to just the Tax Service Fee (this should be less than $100).
- There are no income or geographical limits for FHA financing.
FHA borrowers are typically first time home buyers. FHA allows for gift funds for down payment and closing costs as well as non-occupant co-borrowers. Mom and Dad can help their kids with the purchase of their first home.
Current FHA loan limits for King, Snohomish and Pierce Counties are:
- Single Family $362,790
- Duplex $411,950
- Triplex $500,500
- Fourplex $577,500
Sellers, you can contribute up to 6% of the sales price with FHA financing. Adding FHA financing as a possibility to your house AND contributing towards closing costs could make your listing more appealing over other properties you’re competing with.
Today’s FHA mortgage is much improved than those we remember prior to 2006. If you have a buyer who has been preapproved for a FHA insured mortgage, you have gold!
Note: I’ll be following up with more information FHA guides as well, including one for Buyers. :)
Taking on KING/KONG… September 18, 2007
Yesterday I was interviewed by a KING-5 reporter, Kim Holcomb, and which I had written about on my blog at this post. I had jokingly referred to taking on King Kong but only because the news segment was shown on KING-5 and KONG-6 last night.
The news story was about how the market here is changing just a bit to more of a stabilized market. At the beginning of the report a seller talks about it being a “buyer’s market” but I wouldn’t necessarily agree with him completely. We’ve still got room to move before that happens and if anything we’re more balanced than the past 5 years. The segment did run on both KING and KONG stations and, from what my business partner tells me, it is one of the most viewed and forwarded links from the KING-5 website today. Here is a link the actual news story about the Seattle real estate marketplace along with pieces of my interview.
It seems we’re (Team Reba) getting a lot of press lately. I was interviewed in July for a story on blogging for the RE/MAX Times back in July (released in September) and just last week I was interviewed for a real estate investment magazine which will be printed in the November/December time frame. Now, if I could just get the interviewers to pronounce my name correctly…. 
Don’t let your “gut check” go to waste… August 30, 2007
No, I’m not talking about a new abdominal workout but rather advocating that landlords be on top of things when choosing who to rent to. I bring up the topic to highlight that the majority of landlords don’t do this kind of research using instead a “gut check” to determine if someone is lease-worthy; they can end up hurting themselves or others if they aren’t doing the due diligence to know who they are renting to. It’s also on my mind as we had dinner last night with a client (a couple) who was regaling us with stories of him having to out upwards of 3 felons from a property over the past 2 years. Each of these tenants had been renting in the building prior to them buying it so they hadn’t had the opportunity to do a background check of their own and when you buy a property with outstanding leases you can’t require the tenants to undergo a background check - you just get what is handed to you.
In fact, Washington has just recently passed an offender re-entry housing law under HB 6157 that will impact landlord’s liability for renting property to past offenders.
Sections of this bill show the potential of liability being removed from the landlord BUT ONLY IF the landlord follows certain procedures. The full details are in the RHA newsletter publication dated in August 2007, Vol XXI, No. 8, Section A but I’ll paraphrase here by saying that basically you have to disclose to residents in your building that you have a policy of renting to offenders and that you must take steps to report or halt any criminal activity you have knowledge of on your property premises. You can contact Alice Bartley of RHA (publications@rha-ps.com) to see if she has extra copies of this newsletter available.
One way you can opt out of some of this potential for liability is to have a “no felony” policy as part of your rental screening process. There are several ways that you can screen prospective tenants and one of them is to do a background check for criminal history. In the Puget Sound area you can sign up as a member of Rental Housing Association of Puget Sound (www.RHA-PS.com) and get access to their tenant screening services which can include background as well as credit checks. You can also check for sex offenders online at this website. Even if you don’t sign up for RHA, it’s worth your time and money to do some research, but I HIGHLY recommend people get involved in organizations like RHA because they keep you informed and they also lobby regularly on behalf of landlord rights.
In Wichita, KS you can go online to this website for the KASPER search they have available. (KASPER stands for Kansas Adult Supervised Population Electronic Repository.) Apparently it is the “friendly ghost” for landlords and perhaps anyone meeting and dating online. I found the boyfriend of one of my KS tenants on this website - she’s been letting him stay at my property (this started prior to my purchase of the building) but they are moving out as of the end of this month. Good. And Goodbye.
If you are a person looking to buy rental property I would recommend that you ask the seller if they have ALL the records for the tenant screening processes that they’ve used in the past to provide during your inspection process and not just the lease records. You will want to know if there are known felons living on the premises especially if you’ll be responsible for possible liabilities due to a tenant’s bad behavior and a new owner must meet the terms of a lease agreement if it is still in place when buying a property.
Another area where I wonder how it will play out over time is that in residential units (1-4 in WA) the State’s required Seller Disclosure Form has a notice stating that sellers need not disclose if there are sex offenders living near their home. If the home is used as rental property, and a known sex offender is renting at the property, will the seller need to disclose it?
Recall notice on some GE Dishwashers August 29, 2007
I got a notice the other day, and I’ve had a client receive one before too, asking me to check the model and serial number on my dishwasher to see if it might be one of those that has had problems.
“What is the problem they are concerned with”, you ask? Well, it seems that some liquid rinse-aid products build up a residue on the wires inside the door which can degrade the insulation of the wiring. This in turn has caused electrical shorts and fires in some of their products.
My client’s dishwasher ended up not being one of those on the recall list. However, mine was. The good news for me is that I don’t use any rinse-aid products so the recall won’t necessarily apply to me. It does put me on notice that I shouldn’t use the rinse-aid in the future though.
I’m wondering how people are supposed to notify purchasers of their homes about product recalls like this when they sell? Would it possibly be required on a disclosure form even if the specific dishwasher in your house never had a rinse-aid used in it? The notice from GE says that if you’re the owner of one of these dishwashers and you cannot attest to whether or not the former owner used rinse-aids, then you should repair or replace the dishwasher.
Anyone else have comments on how they would do it? For my own home, I’m thinking about taping a copy of the notice inside the cabinet under my kitchen sink and making a note that I don’t use rinse-aids and then perhaps keeping a copy with all of my other appliance manuals.
If you’ve got rentals with dishwashers you should be sure to check them as well as your own home’s dishwasher.
